Don’t Let Cash Drag You Down
The Real Cost of Staying on the Sidelines
Cash feels safe. It’s accessible, stable, and predictable—especially in volatile markets. But while cash can play a critical role in your financial plan, too much of it can become a hidden anchor on your portfolio’s performance. This is what financial professionals refer to as cash drag: when holding excess cash reduces your overall returns compared to a fully invested portfolio.
Let’s walk through why cash drag matters, how much cash you actually need, and how to put the rest of your capital to work strategically.
How Much Cash Should You Really Hold?
The key to using cash wisely is to separate emergency funds from investable assets. The general rule of thumb is to hold 3 to 6 months’ worth of essential expenses in a high-yield savings account, money market fund, municipal money market fund, or cash-equivalent instrument. These funds serve as your financial cushion in case of:
Job loss or income interruption
Emergency medical bills
Home or car repairs
Unexpected travel needs
This reserve acts as a safety net—not a growth vehicle.
However, it’s very common for investors to hold much more cash than necessary, especially during periods of uncertainty or market volatility. The problem? That excess cash is not compounding at the same pace as a diversified investment portfolio. Even with interest rates on money market savings vehicles in the 4% range, historical equity market returns have often far outpaced that. In some cases, cash sitting in your checking account at the bank, or in your brokerage account might be earning next to nothing.
What Cash Drag Looks Like in Real Life
To understand the true cost of cash drag, let’s consider a simplified example.
Imagine you had $10,000 in January 2020. You had two options:
Keep it in a cash account earning 4% annually, or
Invest it in the S&P 500, a broad index of U.S. stocks
Let’s look at where you’d be by the end of 2024:
Results after 5 years:
Cash at 4% interest: Grows to about $11,700
Invested in S&P 500: Grows to approximately $16,600
That’s a difference of almost $5,000. Even in an era of relatively attractive short-term rates, equities still delivered significantly greater growth.
Now imagine that this pattern holds for larger sums or for longer periods. The opportunity cost of sitting in cash can easily compound into tens or hundreds of thousands of dollars lost over a lifetime.
Why People Sit in Cash—and What to Do Instead
It’s completely understandable why people hesitate to invest excess cash. Common reasons include:
Fear of investing at a market peak
Lack of confidence in investment choices
Waiting for the “right time” to buy in
General uncertainty about financial priorities
These concerns are natural—but they can be mitigated with thoughtful planning. The antidote to uncertainty isn’t avoidance; it’s clarity and discipline.
The Pitfall of Waiting for a Downturn
One of the most common reasons people sit on excess cash is the belief that a better “buying opportunity” is just around the corner. Investors may wait for a correction or bear market before putting money to work, hoping to buy in at a lower price. While this seems rational on the surface, it rarely leads to better outcomes in practice.
One of my favorite examples is a blog post by Ben Carlson, author of A Wealth of Common Sense. He gives the example of Bob, the world’s most unlucky investor. Bob has the bad luck to only buy stocks right before bear markets, including the 1973-74 bear market, the crash of 1987, the dot com bubble bursting in 2001, and the financial crisis in 2008/2009. Even after investing $184k at various market “tops”, Bob still ends up with over $1M after 40 years of investing.
My conclusion? If your time horizon is long enough, investing at market tops isn’t a good decision, it’s a GREAT decision. Don’t fear the drawdowns, and don’t try to time them. You may never have the chance again to buy in at that lower price.
Start with a Liquidity Analysis
Before investing any extra funds, the first step is to understand your true liquidity needs. A simple liquidity analysis can help clarify how much cash you need and when. This involves:
Reviewing your monthly expenses and fixed obligations
Accounting for large upcoming expenditures (property purchases, tuition, etc.)
Determining your risk tolerance and time horizon
Segmenting assets into short-term (0–2 years), medium-term (2–5 years), and long-term (5+ years) buckets
By mapping this out, you can confidently determine what portion of your money should remain in cash—and what can be invested to pursue long-term goals.
Investing Isn’t All-or-Nothing
One of the biggest misconceptions about investing excess cash is that it requires a dramatic shift. In reality, the transition can be gradual and customized. For example:
You can ladder CDs or Treasury bills to maintain a mix of liquidity and yield
You can establish a core investment portfolio with exposure to diversified stock and bond ETFs
You can set guidelines for replenishing your emergency fund over time if it’s ever drawn down
The point is: there’s a spectrum between sitting entirely in cash and being 100% invested in equities. With planning, you can land in the optimal zone for both safety and growth.
Final Thoughts
Holding some cash is smart. Holding too much for too long is costly. If you're not sure how much cash is too much, let’s work together to complete a liquidity analysis and develop an investment strategy that aligns with your needs, risk tolerance, and goals.
We just had a U.S. market correction of almost 20% in April 2025. Did you have the courage to step in and buy during the drawdown? Did you think we were going down further and waited? We have bounced significantly since then. Could we go back down again? Certainly! The market is impossible to predict over short time periods. However, the market has historically rewarded those who can shift their focus to the long-term.
In my experience, discipline always trumps precision when it comes to investing and financial planning. We may never it get it exactly right, but avoiding small self-inflicted setbacks along the way will ultimately enhance your chances of success.
